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Designing Monetary Policy when Unemployment Persists

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  • Ben Lockwood
  • Marcus Miller
  • Lei Zhang

Abstract

This paper investigates how unemployment persistence affects the optimal delegation of monetary policy to an independent central banker (CB). Two opposing forces are shown to be at work: with more persistence, the government’s incentive to stabilize the economy is greater; but (if the CB is forward‐looking) its incentive to create inflation surprises is also greater. We show that, owing to the second effect, the government may wish not to delegate at all, unlike the case where there is no persistence. In the event that the government does delegate, the paper identifies conditions under which either effect dominates in the government’s choice of conservatism of the CB. We compare delegation to discretion and precommitment, using a diagrammatic approach that may be of independent interest. We also present some preliminary empirical evidence on the cross‐country relationship between unemployment persistence and inflation that appears consistent with the model’s predictions.

Suggested Citation

  • Ben Lockwood & Marcus Miller & Lei Zhang, 1998. "Designing Monetary Policy when Unemployment Persists," Economica, London School of Economics and Political Science, vol. 65(259), pages 327-345, August.
    • Handle: RePEc:bla:econom:v:65:y:1998:i:259:p:327-345
    DOI: 10.1111/1468-0335.00132
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